October 30, 2004  ·  William Fisher

In this, my final, post, I�d like to take up the troublesome topic of price discrimination � both with respect to the distribution of audio and video recordings and with respect to sales of pharmaceutical products. My own view, which I�ll try to explain briefly, is that (a) we are likely to see much more price discrimination by the providers of these goods in the near future; (b) price discrimination in the context of entertainment is, on balance, bad; and (c) price discrimination in the context of drugs is, on balance, good. Judgments (b) and (c) are tentative and surely debatable; I�m hoping to elicit reactions.

First some background (from Chapter 4 of my book): �Roughly speaking, price discrimination refers to the practice of charging different consumers different prices for access to the same good or service. Somewhat more precisely, it means charging different consumers different prices when the variation cannot be explained by differences in the costs of the versions of the good or service that is supplied to them. A traditional example of price discrimination is the practice of airlines to offer discounts to customers who �stay over� at their destinations for a Saturday night. The cost to the airline of supplying the service in question–the various expenditures necessary to carry a person in a plane from, say, Boston to San Francisco and back–is the same regardless of whether the passenger stays in San Francisco for a day or a week. The only reason for varying the price is to extract higher fares from people who are able and willing to pay more (in this case, business travelers, most of whom have expense accounts), without pricing out of the market people who are able and willing to pay less (in this case, tourists).

�Price discrimination increases a seller�s profits. Why, then, don�t all sellers engage in it? The main reason is that, with rare exceptions, price discrimination is only feasible when the seller both has some degree of market power and is able to discourage �arbitrage.� Market power exists when there are no readily available, equally satisfactory substitutes for the good or service that the seller is offering. Arbitrage occurs when a customer who purchases a good or service at a low price is able to resell it (typically at a profit) to someone who otherwise would be obliged to pay a high price for it�.�

Record companies, film studios, and pharmaceutical companies all enjoy some degree of market power. Their ability to engage in price discrimination in the past has been limited primarily by the difficulty they have had in curtailing arbitrage. (The �first sale� doctrine in copyright law affirmatively protects arbitrage, and drug companies have had trouble preventing purchasers of drugs at low prices from reselling them to others at higher prices.) This has not prevented the companies from engaging in price discrimination altogether, but has forced them to engage in relatively crude versions. The best known is the so-called �windowing� marketing system in the film industry, in which the studios divide up their markets temporally — first milking the market of especially eager or wealthy viewers by charging high license fees to first-run theatres (which, in turn, charge substantial fees for admission), then gradually releasing the film at diminishing prices in a series of secondary markets. (More detail on this practice can be found in Chapter 2 of my book.) The pharmaceutical companies, by contract, have practiced geographic price discrimination. Except when prevented by �exhaustion� doctrines (e.g., within the EU), they price their products differently in different countries, depending on the residents� ability and willingness to pay.

In the near future, I suggest, we are likely to see much more precise and ubiquitous forms of price discrimination � certainly in the entertainment industry and perhaps in the drug industry. With respect to the former, the main reason is that (assuming that an ACS is not adopted in the near term), the record companies and film studios are likely to intensify their efforts to develop digital rights management systems (perhaps with support from governments, in the form of enhanced versions of the Digital Millennium Copyright Act and its ilk). DRM systems are designed, among other purposes, to frustrate arbitrage � i.e., to prevent the first purchaser or licensee of a recording from transferring it to others. The net result: the record companies and films studios, if their DRM systems work, will begin to divide the universe of people who wish access to their works into much thinner slices and to set different prices for each subgroup. In the old days, everyone paid the same price for a CD. Soon, the price you are charged for access to a recording will vary with such things as your age, your zip code (a proxy for your income), what sort of device you will play it on, etc. Whether we will see a similar trend in the drug industry is less certain, but the overall trend toward the curtailment of international exhaustion rules, combined with intensified pressure on drug companies to lower their prices in poor regions, may enable and induce the pharmaceutical houses to further refine their price discrimination schemes.

Should we applaud or lament these trends? My contention is that there�s no blanket answer to that question � that price discrimination has both good and bad effects, and that its overall social desirability varies by context.

Its benefits include:
(a) It enables the entertainment and drug companies to make more money. If (a big �if�) we believe that augmentation of their profits will increase their incentives to engage in socially beneficial innovation, that�s good.
(b) It increases the ability of the poor to gain access to copyrighted or patented material. When the material in question consists of a life-saving drug, that means that price discrimination saves lives.
(c) Usually (not invariably), it redistributes wealth from the rich to the poor � and thus functions like a progressive income tax.

Its disadvantages include:
(d) The time and effort necessary to devise and implement price-discrimination schemes represent a social waste. Some forms of the practice (most importantly, so-called �second degree� price discrimination � in which the seller of a product induces potential buyers to reveal their resources or preferences by offering them different versions [such as business-class and coach-class plane tickets]) � are especially wasteful.
(e) In the view of at least some people, it is immoral. �Charging whatever each submarket market will bear,� �gouging,� seems improper. All people ought to have equal access (i.e., access on the same terms and at the same price) to a particular good or service.

My own view is that, with respect to drugs, argument (d) and (e) are trumped by the compelling interest in getting life-saving drugs into more hands (argument (b)). With respect to recorded entertainment, where increasing access to the products as issue is nowhere near so important, the right way to weigh these competing considerations is much less clear. Moreover, in context of entertainment, price discrimination has some additional troubling features, summarized in the following excerpt from Chapter 4:

�Sadly, [the] benefits [of enhanced opportunities to engage in price discrimination] would pale in the face of three other pernicious effects. The first is cultural. As Wendy Gordon has suggested, [a world characterized by pervasive price discrimination] would have a distressingly granular feel. Each time you listened to a song or watched a movie, you would know that a tiny meter, attached to your credit card or bank account, was whirring. Each time you bought a lobster in an upscale grocery store, you would know that your �consumer profile� was being adjusted–and that, next week, the prices you paid for all entertainment products would be one notch higher. Awareness of these effects would likely make you more calculating. Also, perhaps, less altruistic. Conscious that you are paying for each bit of entertainment you consume, you might be less inclined to �give back� freely to the culture the fruits of your own imagination. To most people, such a world seems unattractive.

�Second, creative and critical uses of entertainment products would likely suffer in this new environment�. [S]uppliers would most likely charge higher prices to people who wished to modify their products or incorporate them in other works. Cover artists, rap artists (who rely on digital sampling), and ordinary consumers who just like to �play around� with recordings, would all pay substantially higher fees. This price rise, plus inevitable imperfections in the rate-setting mechanisms, would sometimes place access to digital products beyond the financial means of such second-tier creators. Society at large, consequently, would lose the benefit of their derivative products, and opportunities for semiotic democracy would be curtailed�.

�Finally, when added to the many other opportunities to make money considered in this chapter, the ability to engage in precise price discrimination would radically increase the incomes of the creators of music and movies. The result would be a massive transfer of wealth from consumers to producers–much more than necessary to offset the losses that the producers are currently suffering or are likely to suffer in the future. That effect seems troubling in its own right. In addition, it would exacerbate the problem discussed at the end of Chapter 2 — in which the large and highly visible incomes of �star� performers draw inefficiently large numbers of aspirants into the music and movie businesses. If that problem is bad now, it would become worse in the altered legal and business environment.�

Bottom line: we should adjust legal rules to assist drug companies to engage in price discrimination, but, other things being equal, we should legal reforms that afford the owners of copyrights in songs and films similar opportunities.

Reactions?

Terry Fisher

October 27, 2004  ·  William Fisher

From the last set of interesting reactions to my proposal for an Alternative Compensation System, I�ve culled a few especially sharp-edged objections. After trying to address them, I turn to the difficult question of what sort of regime is likely to emerge in the entertainment industry if we don�t move toward an ACS.

Valuation Problems Excellent question by Cory, echoed by Erik: �It doesn�t seem that this system addresses variation of value to the consumer. The Economist, for example, can charge a significantly higher yearly subscription fee than Entertainment Weekly, because its relative value to its (I suspect) smaller subscriber base is much higher. How does this system support niche items of high value to their niche?� It�s quite right that my proposal contains a mechanism for incorporating only one of the many variables that give rise to differences among recordings in terms of their value to consumers � namely, duration. (Click here for the relevant portion of Chapter 6.) But that seems to me acceptable with respect to music and film, where differences in value are not very great � as reflected in the fact that, in the current, market-based system, CDs and DVDs of all types sell for very similar prices, and the cost of admission to theatres varies little with the content of what�s shown on the screen. The same cannot be said (as Cory�s example notes) for print media, software, or games � which partly explains why I haven�t proposed incorporating such materials in my plan.

Why not rely on voluntary contributions? Ian�s post, and the FairShare proposal to which he directs our attention, presents this common argument in a novel and unusually attractive form. My response: Your efforts to reinforce, by creating opportunities to invest in promising artists, the willingness of music consumers to donate money to their favorite musicians is commendable, but I see two problems. The first is the notorious reluctance of consumers to make voluntary contributions to creators. People tip waiters partly because it�s a well-established social custom and partly because they are in face-to-face contact with the waiters and would feel ashamed to snub them. Neither constraint operates on the Internet. The unfortunate result is the failure of PayPal etc. to generate significant revenues for artists. The second worry is that, if current trends continue, it will be less and less feasible for musicians to make money through sales of their recordings. (Some observers � including, for example, Jens in her thoughtful post � celebrate or at least accept that outcome; others lament it. But it seems hard to deny.) The result is that, in the absence of an ACS or some other substantial reform initiative [more on this below], over time fewer and fewer investors in your system will recover any money, which will make it resemble ever more closely a pure busking regime, which hasn�t worked thus far.

Big Government Several posts emphasize the hazards of letting a government set up and run such a system. I agree that the dangers are serious � and are discussed in some detail in Chapter 6. Awareness of those risks partly underlies the proposal made at the end of the chapter for a voluntary Entertainment Coop, which would resemble a government-run ACS, but would rely upon subscriptions, rather than taxes. (If you�re curious concerning how such a system might be constructed and what might prompt people to sign up for it, check out this summary.) But, as by now should be apparent, I am less despairing concerning the ability of a responsible government agency to manage such a regime than are several people who have participated in this last round of discussion. Government-run collecting societies in Europe and judicially supervised private collecting organizations in the U.S. (ASCAP and BMI) are far from perfect, but they are not disastrous either. Certainly, composers are better off in their presence that they would be in their absence. I�ve tried, in my book, to identify their defects and suggest ways in which they could be corrected. In the end, I find efforts of that sort more promising than any of the alternatives.

Other Options Speaking of alternatives, if we don�t move toward an ACS or an Entertainment Coop, what is likely to happen? Most likely, one of three things:

1. Unauthorized copying continues to increase, and consumers increasingly rely up materials obtained (free) online for their entertainment needs. The film industry, in its current form, collapses � perhaps replaced by small, independent studios, financed by donations from corporations, foundations, and government agencies. Musicians continue to make recordings (inexpensively, using the rapidly improving digital recording technologies) but don�t earn any money from them, treating them instead as advertising for their performances.

2. The record companies and film studios, dismayed by the prospect of #1, persuade Congress to reinforce the copyright system substantially � for example, by adopting the INDUCE Act and sharply increasing criminal penalties for unauthorized reproduction of digital recordings. We see a protracted �war on piracy� very similar to the longstanding �war on drugs.�

3. Alternatively, the record companies and film studios persuade Congress to adopt some version of the Consumer Broadband and Digital Television Promotion Act � which requires the manufacturers of all consumer electronic equipment to embed in their products technology that recognizes and respects watermarks, and to remove from their devices all analog ports.

I�ve already explained in prior posts why I think #1 is an unattractive outcome � though plainly I have not persuaded everyone. That said, #1 is the least probable of the scenarios. The record and film industries are sufficiently powerful, and the majority of Congressmen are sufficiently sympathetic to them, that, if the fundamental transformation contemplated by #1 seems imminent, we will see legislation of type #2 or type #3. The merits and demerits of those routes are explored in Chapter 4 of my book. Before addressing them, I�d be curious concerning whether anyone has a different forecast.

October 26, 2004  ·  William Fisher

A sufficient number of interesting responses have been made to my original post on Alternative Compensation Systems that I thought I�d start a new thread. I can�t hope to address all of the themes that have been raised, but here are a few:

(1) Porn. Lots of people currently pay for access to pornographic films. If an ACS were instituted, some of the money raised through taxes would also end up in the pockets of the creators of pornographic films distributed for free online. Should we be troubled by this outcome? In my view, no. Arguably, we should be troubled by the fact that porn is so popular. But channeling money to pornographers through an ACS doesn�t seem any worse than channeling money to pornographers through the market.

A possible retort: �I may not be entitled to object if my neighbor buys porn, but I certainly don�t want any of my tax dollars going to porn.� The response: If you consume an average amount of recorded music and film, and if the sampling system used to manage an ACS accurately estimated the frequency with which specific recordings were consumed, then your tax dollars would go only to the artists you patronize. In other words, you would help pay for porn only if you watched porn. (For the same reason, your tax dollars will go to Britney only if you listen to Britney.) Admittedly, for this argument to hold, it would be crucial for the sampling system to work well, but we�ve already addressed this issue.

A final (and more powerful) retort: �The problem is not that my tax dollars would go to pornographers, it�s that legislators would refuse to establish a system in which any tax dollars went to pornographers. In other words, when instituting an ACS, they would insist on excluding from its coverage all pornography. We would thus start down a very dangerous road � in which government officials made judgments concerning which artistic works are meritorious and which are not.� I agree that this is a serious hazard. It�s not inherent in an ACS. But it highlights how an ACS might be distorted in the course of legislative implementation.

(2) Cross-subsidies. In an ACS, people who consume little or no recorded entertainment would pay the same amount as people who consume a great deal. It�s frequently argued that that�s both unfair and will lead to various economic distortions. This argument has a good deal of bite; such cross-subsidies definitely constitute one of the drawbacks of the system. The problem is mitigated by the fact that (under my version of the idea, anyway) only broadband accounts are taxed. (Thus someone who truly uses the Internet only for email and to check the weather can avoid paying the most substantial of the taxes.) The problem could be mitigated further if we used �Ramsey pricing� to set the tax rates (an issue discussed in more detail in Chapter 6). Finally, it could be reduced sharply if, as �.ant� suggest in his or her post) the ISPs upon whom the tax is levied charged high-volume subscribers more than low-volume subscribers. But the problem cannot be made to disappear altogether. Is it a fatal objection? In my view, no. The amounts of the taxes are modest. (The largest of them is the (indirect) tax on broadband subscriptions � which, in the first year in which the system were in operation, would be roughly $5 per month.) We tolerate vastly larger degrees of inequality in many other domains. (Think, for example, of public schooling, which is funded in the U.S. primarily by property taxes, borne in equal amounts by homeowners with no children and homeowners with many.) Bottom line: the overall savings of the system seem sufficient to justify a modest degree of inequality in the distribution of its burdens.

(3) Derivative Works. One of the greatest advantages of an ACS, in my view, is that it creates a sensible mechanism for dealing with composite recordings � rap songs that include samples of other recordings, modified or expurgated films, mash-ups. In sharp contrast to copyright law, an ACS regime would authorize persons to rework existing recordings, refashioning them into new products � provided they complied with two conditions: (a) they identified the owners of the copyrights in the original works when they registered their new works; and (b) they gave credit where credit is due. When a modified work were downloaded or streamed, both the creator of the original work and the modifier would get a share of the resultant revenue. (For considerably more detail concerning how such a system would work in practice, see Chapter 6.) The net result would be to liberate the transformative cultural activities the potential for which is perhaps the most important of the many benefits of the Internet, while continuing to compensate fairly creators of various sorts.

(4) Who Gets Paid? There are very good reasons, suggested by Kristin in her post, for requiring that at least some portion of the payments from an ACS be distributed directly to artists, rather than paid to the intermediaries (e.g., record companies) to whom the artists have assigned their copyrights. (Those reasons are explored in more detail in Chapter 5.) But there are two related catches: moving in this direction further decreases the already small probability that the major intermediaries would support the plan; and it would also increase the likelihood that the system would be challenged successfully as an unconstitutional �taking� of private property without just compensation.

For yet more objections to ACSs � and responses to those objections � check out the pertinent portions of Andrew Orlowski�s recent speech at the �In the City� Convention � available at http://www.theregister.co.uk/2004/09/23/orlowski_interactive_keynote/page7.html.

That�s probably enough on this issue. Tomorrow, I�ll venture some comments on an equally divisive topic: price discrimination. Thursday or Friday, if all goes well, I hope to veer in a different direction, discussing the current crisis involving the distribution of drugs in developing countries.

Thanks to everyone for your comments thus far.

Terry Fisher

October 25, 2004  ·  William Fisher

Several of the interesting and challenging responses to my original post focused on the merits and demerits of my contention that an alternative compensation system (ACS) would be superior to the copyright system as a way of compensating the creators of recorded entertainment that is distributed online. I had originally intended to save discussion of that topic for later in the week. But it�s understandable that people want to take it up now, so here goes�. I�ll begin with a very brief summary (taken from the Introduction to the book) of my variant of this idea, then address a few of the more serious objections to such a system.

First of all, it�s important to emphasize that I�m not the only person who has proposed an ACS. The pioneering treatment is Neil Netanel�s. Among academics, Jessica Litman, Raymond Ku, and Glynn Lunney have all contributed importantly to the project. The general idea has been in the air for at least a century. Certainly, several of the people who have gone before me would disagree with some of the comments set forth below. With that caveat, here�s the summary of my own version:

�The owner of the copyright in an audio or video recording who wished to be compensated when it was used by others would register it with the Copyright Office and would receive, in return, a unique file name, which then would be used to track its distribution, consumption, and modification. The government would raise the money necessary to compensate copyright owners through a tax � most likely, a tax on the devices and services that consumers use to gain access to digital entertainment. Using techniques pioneered by television rating services and performing rights organizations, a government agency would estimate the frequency with which each song and film was listened to or watched. The tax revenues would then be distributed to copyright owners in proportion to the rates with which their registered works were being consumed. Once this alternative regime were in place, copyright law would be reformed to eliminate most of the current prohibitions on the unauthorized reproduction and use of published recorded music and films. The social advantages of such a system, we will see, would be large: consumer convenience; radical expansion of the set of creators who could earn a livelihood from making their work available directly to the public; reduced transaction costs and associated cost savings; elimination of the economic inefficiency and social harms that result when intellectual products are priced above the costs of replicating them; reversal of the concentration of the entertainment industries; and a boost to consumer creativity caused by the abandonment of encryption. The system would certainly not be perfect. Some artists would try to manipulate it to their advantage, it would cause some distortions in consumer behavior, and the officials who administer it might abuse their power. But, on balance, it is the most promising solution [to the intensifying crisis in the entertainment industry].�

Here are five worries/objections often raised by skeptics of such a system � followed by efforts to address each:

(1) Does such a system �scale� internationally (see John Allsopp�s post)? This is definitely one of the weaknesses of an ACS. If adopted in only one country (say, the U.S.), it would �leak� across national boundaries � in the sense that French artists whose creations are downloaded in the U.S. would be paid portions of the tax revenues collected by the American government from American consumers, while French consumers would gain free access through the Internet to the creations of American artists, and American artists would not collect anything from French taxpayers. To be sure, American artists would be no worse off under such a regime than they are at present. Nevertheless, awareness of this aspect of the system would contribute to the already substantial resistance of Americans to the adoption of such a regime.

Is there any escape from this bind? Modification of the pertinent international treaties (most likely, the TRIPS Agreement) to force other nations to adopt similar regimes is extremely unlikely in the near future. Harmonization thus would have to occur through voluntary adoption of ACSs by other countries. Chapter 6 of my book explains: �The success of the system might prompt countries other than the United States to institute similar systems. Each would impose taxes on its own residents� ISP subscriptions and purchases of electronic equipment. Each would establish a registration system, permitting copyright owners from every country to register audio and video recordings. (Ultimately, these separate national offices might be superseded or supplemented by a global registry for digital works.) Using schemes like those outlined above, each country would estimate the relative frequency with which those recordings were consumed by its residents � and would then distribute its tax revenues accordingly, to both domestic and foreign registrants. An interlocking set of national regimes of this sort would cure the third of the three major disadvantages of a tax-and-royalty system noted in the previous section � namely its tendency to leak across national boundaries. All of the national regimes would continue to leak, of course. But the leaks would occur in both directions � and would fairly reflect the extent to which consumers within one country were relying for their entertainment on works created by artists in other countries.�

(2) Would artists really be compensated in proportion to the frequency with which their creations are consumed? Skepticism on this score takes two very different forms. Some people (like Jeremy Williams of Warner Bros.) worry that too much money would be channeled to minor contributors to the stew of entertainment products, leaving the studios with too little income to support high-cost modern productions. Others (like John Allsopp in his post) have the opposite concern � that the enormous number of artists whose works are downloaded in small numbers will not get their fair shares. The ability of the system to assuage both concerns depends on the quality of the sampling system used to count consumption rates. In Chapter 6, I devote a fair amount of space to a discussion of how one might design an effective sampling system. In brief, here are its essential features:

�[T]he Copyright Office [w]ould randomly select a set of entertainment consumers who were willing to allow the Office to monitor what they actually listen to and watch. The imperfections of the Nielsen model could be avoided (or at least mitigated) through the following [three] related adjustments. First, the process of gathering data concerning consumers� habits could and should be automated. Software � distributed as �plugins� for playback devices or bundled with peer-to-peer file-sharing applications � would automatically record the registration numbers of the songs and films that sample members heard and watched (all the way through) and periodically transmit that information to the Office. Sample members would thus experience no inconvenience and would have few opportunities to misreport their choices. Next, the size of the sample employed by the Copyright Office would have to be vastly larger than the sizes of the samples used by Nielsen. This would be essential to enable reasonably accurate estimates of the frequency with which each member of an enormous array of songs and films were being consumed. It would be feasible because of the low cost of the automated reporting system. [Third and finally, to] persuade a representative set of households to permit their consumption patterns to be monitored, one would have to provide them credible assurances of privacy. In other words, they would have to be persuaded that the data the Copyright Office gathered concerning the frequency with which they watched particular films or listened to particular songs would be aggregated when determining the amounts of money paid to artists, would be discarded after each monthly accounting, and would not be made available to any other public or private entity�.�

But the proof concerning the efficacy of such precautions is in the pudding. At the Berkman Center, we�re hoping to build a sampling system along these lines � and then to try it out in conjunction with a voluntary Entertainment Coop. One of our major goals is to address the legitimate anxiety that, under an ACS, artists of different sorts would be either underpaid or overpaid.

(3) Won�t unscrupulous artists and third parties �game� the system, artificially inflating the number of times their works are supposedly �consumed� and thus depriving deserving artists of their fair shares of the ACS fund? The primary answer to this serious source of concern is that, once again, a great deal depends upon the quality of the sampling system used to estimate consumption rates. A secondary response is that the �gaming� problem is most serious with respect to downloads and is much less worrisome with respect to streamed works. As we shift, increasingly, from a world in which people create permanent collections of audio and video recordings to a world in which people listen to �streamed� songs and watch �streamed� films, the �ballot-stuffing� problem will diminish.

(4) Shouldn�t ISPs, rather than individual consumers, pay the taxes necessary to run such a system? Yes, and/but they would undoubtedly pass a substantial portion of the tax on to their subscribers.

(5) Wouldn�t consumers end up paying just as much for access to entertainment under an ACS as they currently do under the copyright regime? If so, we will have accomplished nothing more than substitution of a creaky government bureaucracy for a creaky copyright system. This, in my view, is the objection most easily met. Even if the distribution of digital recordings over the Internet fully displaced the current mechanisms by which recordings are distributed, consumers would end up paying much less under an ACS than they currently do. Specifically, even using highly conservative assumptions, the average American household would end up paying no more than $250, roughly half of the $470 the average household currently pays for access to recorded entertainment, and would receive, in return unlimited amounts of ad-free music and movies. That seems a gain dramatic enough to warrant seeking solutions to the hazards and complications discussed above.

I�m hopeful that other aspects of the system will emerge in the course of the discussion, but those seem like enough for now.

October 24, 2004  ·  William Fisher

Larry has kindly offered me the opportunity to host his blog for a week. My plan is to use the opportunity primarily to catalyze a discussion of the current crisis in the entertainment industry and what potential solutions to it are both attractive and practicable. I recently published a book on the subject: Promises to Keep � Technology, Law, and the Future of Entertainment. The Introduction, which lays out the argument of the book as a whole, and Chapter 6, which has proven to be its most controversial piece, are available online. The book itself can be purchased through any online bookstore.

I thought I�d begin by briefly summarizing the argument of the first chapter, and then ask whether, particularly in light of some recent articles and developments, the argument holds up.

Here�s the argument in a nutshell: In combination, three technological developments � digital recording and storage systems, compression/decompression systems, and the Internet � have created dramatically new ways of making, keeping, sharing, and enjoying audio and video recordings. Full exploitation of those new techniques would have many social and economic benefits: large costs savings (enabling consumers to get more entertainment for less or artists to be paid more); greater convenience and precision in the ways that recordings are delivered to consumers; a sharp increase in the number of musicians and filmmakers who can reach global audiences and make decent livings; enhancement of the diversity of materials available to the public; and a dramatic increase in the number of persons who participate in the making of culture (a trend for which I use the term [not of my own invention] �semiotic democracy�). The same developments, however, pose three serious dangers: corrosion of the systems by which artists and intermediaries have traditionally made money from their recordings; threats to artists� �moral rights�; and destabilization of the cultural icons in reference to which we partially define ourselves. The chapter concludes with the claim that we ought to strive, through a restructuring of the legal system and associated business models, to capitalize on the opportunities created by the new technologies, while minimizing the concomitant hazards. (The rest of the book then goes on (a) to argue that we�ve failed to achieve that goal thus far and (b) to sketch some ways in which we might.)

Before addressing the particular ways in which I and others have tried to solve the crisis, it might be helpful to consider whether my characterization of the crisis is fair and balanced. One potential line of criticism would point to the recent paper by Oberholzer and Strumpf, �The Effect of File Sharing on Music Sales (http://www.unc.edu/~cigar/papers/FileSharing_March2004.pdf) (which appeared after my manuscript was set) as evidence that I have seriously exaggerated the extent to which the new technologies (in this case, P2P services) have, at least thus far, threatened traditional business models. Another potential line of criticism would argue that moral rights (artists� interest in the integrity of their creations and in being given appropriate credit for their creations) are overblown � either in general or with respect to digital recordings, of which unlimited copies may be made. I�d be curious to hear reactions on these or any other pertinent issues.

Two unrelated procedural points: First, unfortunately, on Monday I will be on planes from roughly 1:00 am to noon Eastern time � and thus, unable, during that period, to respond to comments. But thereafter, I�ll be back online. Second, it may be impossible, given the importance and imminence of the election, to keep a conversation going this week about online entertainment. If so, I�ll have to adapt in some way.

Terry Fisher

August 20, 2004  ·  Tim Wu

So will MGM v. Grokster fasttrack the Induce Act, as many (here Seth F.) think?

Hard to say, but there are some reasons, both from theory and history, to think that it won’t. First, the Grokster decision, by creating a Circuit split, actually creates legal uncertainty that may slow down settlement. Both sides now have a chance to win outright in the Supreme Court. This probably matters more to the electronics industry– with a chance to get everything they want through the Supreme Court, the attraction of settlement decreases.

Second, the story of Sony itself was similar in some ways. During the litigation, both sides had proposed legislation that would have settled Sony with one a various royalty schemes. After Sony came down from the Supreme Court, Sony stopped wanting to negotiate, and the MPAA reevaluated its stance and decided to take a softer line. Now history may not necessarily repeat itself, and Sony the company is a much more reputable player than KaZaA, but that’s the closest parallel.

Third, and finally, particularly if the Court grants cert., Congress may be reluctant to act in the midst of ongoing litigation. Congress likes reversing decisions, as opposed to deciding them itself — that has too much of a “bill of attainder” feeling.

In other words, much in my opinion turns on whether cert. is granted. See previous post.

August 19, 2004  ·  Tim Wu

So the question on Grokster-watchers’ minds: Cert? (For non-lawyers: will the Supreme Court hear this case?)
My guess is yes, for 7 reasons, ranging from the more to less legal:

1. These is a stated legal conflict on the Sony standard as between the 7th and 9th Circuits;
2. The 7th and 9th Circuits disagree (albeit in partially in dicta) on the relevance of willful blindness to secondary liability;
3. The Court has these matters in hand: it has granted cert. in many similar cases historically (Sony, 1980s, White-Smith (the Piano Roll case) 1909, Teleprompter and Fortnightly (Cable / Broadcast, 1960s & 1970s);
4. The Court has a vague sense that some far-out stuff is going on in the field of “Computer Law” that maybe it should check out;
5. Law clerks use P2P technology to plan basketball games;
6. JJs. Stevens and Breyer deeply dig this stuff;

And most importantly,

7. The Court loves to be the center of attention, and this would make it so.

August 19, 2004  ·  Tim Wu

Grokster has won MGM v. Grokster. (By Grokster I mean “Streamcast & Grokster,” hereinafter)

Analysis

The Ninth Circuit has decided that, on the facts developed, Grokster-style P2P technology is an easy case under Sony. For those unfamiliar with Sony, that decision held VCR manufacturers are not liable for copyright infringement practiced by owners of VCRs. The Court ruling recognized, in other words, that the P2P filesharing technology in programs like KaZaA falls into the same category as typewriters, photocopiers, VCRs, and pencils. All are tools that whose usage is not supervised by the manufacturer, that can be used for both legitimate and illegitimate purposes. All are tools that do not attract copyright liability for the manufacturer.

The opinion turns on facts rather than law. Two crucial factual findings accepted by the Court are basically the case. First, the court concludes that P2P is �capable of substantial non-infringing use�:

“A careful examination of the record indicates that there is no genuine issue of material fact as to noninfringing use. Indeed, the Software Distributors submitted numerous declarations by persons who permit their work to be distributed via the software, or use the software to distribute public domain works. [Example of popular band Wilco, who became successful via the P2P music distribution] … In short, from the evidence presented, the district court quite correctly concluded that the software was capable of substantial non-infringing uses and, therefore, that the Sony-Betamax doctrine applied.”

The second factual matter is whether Grokster “contributed” to infringement by its users. The Court found that Grokster does not provide the “site and facilities” for infringement:

“[Grokster et al.] are not access providers, and they do not provide file storage and index maintenance. Rather, it is the users of the software who … create the network and provide the access.” This, of course, is the major factual distinction from the Napster case, as Napster did provide an index and servers that were the “site and facilities” for infringement.

With these two factual findings in place, victory under Sony follows directly. The design of KaZaA with Napster in mind, and the successful development of these facts by Grokster�s lawyers at the EFF (Fred von Lohmann among them), is why Grokster won.

The court writes with a self-consciousness of the effects of copyright for innovation policy. It, in other words, writes in Silicon Valley language rather than Hollywood. The word �piracy� is not in the opinion, nor is �stealing.� Instead, words that could have been penned by Schumpeter: “the introduction of new technology is always disruptive to old markets, and particularly to those copyright owners whose works are sold through established distribution mechanisms.� Does it matter in the long run if the recording industry is hurt? Not really, suggests the court: �history has shown that time and market forces often provide equilibrium in balancing interests, whether the new technology be a player piano, a copier, a tape recorder, a video recorder, a personal computer, a karoke machine, or an MP3 player.�

The opinion is not without its weaknesses, particularly with a view to Supreme Court review. The most obvious weakness relates to the �blind eye� or �willful blindness� issue. On one account, Grokster escaped liability because it deliberately created a P2P network over which it had no control over specific file transfers. If it is trivially easy to create a network that makes it easy to stop copyright infringement, cannot Grokster be accused of trying to make an �end run� around the law, or making itself �willfully blind� to the infringements it is contributing to? This is the more important of two crucial differences with the Aimster decision penned by Judge Posner. Posner said in dicta that �One who, knowing or strongly suspecting that he is involved in shady dealings, takes steps to make sure that he does not acquire full or exact knowledge of the nature and extent of those dealings is held to have [knowledge sufficient for copyright infringement.� Arguably � constructing a system that deliberately left Grokster uninformed and incapable of stopping infringement � is what Grokster did here.

It�s a weakness because the Ninth�s circuit treatment of this issue is cursory: �There is no separate �blind eye� theory or element of vicarious liability�� If this case makes it to the Supreme Court, I would expect everything to turn on this issue. Grokster, of course, can argue that making itself �willfully blind� is actually a better P2P design, and not just a ruse to get around copyright infringement.

But let�s return to the end result. The sale and design of P2P filesharing technology has just been legalized in California. Whether legalizations spreads depends on Supreme Court cert. policy (more on this latter), and that place called Congress and its Act called Induce.